The U.S. regulatory environment is increasingly focused on the impacts of climate change to the stability of the U.S. economy. Over the past year, interagency aligned climate-related guidance and regulation for the financial services industry have been released from the OCC, FDIC, and FRB. These agencies have come together to provide "a high-level framework for the safe and sound management of exposures to climate-related financial risks for Board-supervised financial institutions with over $100 billion in assets” (FRB). In this rapidly changing regulatory landscape, it is challenging to identify, assess, and embed climate risk management and strategy best practice capabilities into your company’s operating model across the three lines of defence.
We advise a top-down approach to climate risk management, starting with the Board. Reflecting on an OCC speech given by Michael Hsu, we have highlighted a set of prioritized capabilities to accelerate and prioritize resources to mature your climate risk program.
The five questions boards should be asking about climate risk:
“What is our overall exposure to climate change?”
- Measure, manage, and monitor your climate risk by identifying hazards, assessing vulnerabilities and risks, and developing risk preparedness and resilience through understanding sectoral implications.
- Enhance climate scenario analysis capabilities to understand sector-specific decarbonization pathways to understand the impacts at the counterparty and loan-level – ultimately informing risk assessments, pricing, and strategic planning efforts.
“Which counterparties, sectors, or locales warrant our heightened attention and focus?”
- Upskill client relationship managers with foundational and targeted sector and asset class training in the context of your firms net zero commitments.
- Develop a systematic framework and approach to evaluate clients’ transition plans to inform capabilities across the client engagement lifecycle (e.g., onboarding, products and propositions, annual reviews).
“How exposed are we to a carbon tax?”
- Evaluate client profiles within a sector to assess impact to CapEx and OpEx and future revenue
- Inventory cross-functional stakeholders to formulate your strategy to develop carbon incentive mechanisms, building off of existing capabilities (e.g., funds transfer pricing, risk appetite/limits, capital allocation).
“How vulnerable are our data centres and other critical services to extreme weather?”
- Evaluate your location strategy and end-to-end supply chain, focusing on operational resiliency and climate risk mitigation.
“What can we do to position ourselves to seize opportunities from climate change?”
- Strengthen client relationships through knowledge-sharing and understanding of technological changes within specific sectors to identify new product opportunities to support client transition plans.
Together, these capabilities allow financial institutions to anticipate regulatory changes and manage climate risk as they begin participating and advancing in the sustainable economy. In the face of heighted US regulatory scrutiny, we advise Banks to take a proactive approach to perform a regulatory readiness and maturity assessment on their firm’s climate risk capabilities. To discuss how we can support you, please contact us.
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